Firms’ Short-Run Decisions to Produce & Long-Run Decisions to Enter/Exit a Market

SHORT-RUN DECISIONS: “Should I produce?”

• Key Idea: In the short run, some costs are fixed, so the firm focuses on covering variable costs.

• Decision Rule

  • Produce if P ≥ AVC (at MR = MC)

    • You can cover variable costs, maybe not total costs, but better than shutting down completely

  • Shut down if P < AVC (at MR = MC)

    • You’re not even covering variable costs — you’re losing more by producing

LONG-RUN DECISIONS: “Should I stay in this market?”

• Key Idea: In the long run, all costs are variable, and firms will make decisions based on economic profit

• Decision Rules:

  • Enter if Economic profit > 0, then P > ATC

    • Attracts new firms!

  • Exit if Economic profit < 0, then P < ATC

    • Firms leave the market.

  • Stay if Economic profit = 0 → P = ATC

  • Breakeven point/Normal profit; resources are being used efficiently